Loyalty management: Marketers should study `loyalty math’

Craig Underwood is president of Loyalty Management Group Canada, the company that manages the Air Miles Reward Program in Canada.This monthly column will explore issues and provide practical information on obtaining the maximum benefit from customer loyalty programs and database marketing.What...

Craig Underwood is president of Loyalty Management Group Canada, the company that manages the Air Miles Reward Program in Canada.

This monthly column will explore issues and provide practical information on obtaining the maximum benefit from customer loyalty programs and database marketing.

What is the goal of marketing?

The question is fundamental to business as we know it, and it has been asked – and answered – countless ways, many of them too complicated to hold value in practical, results-oriented business terms.

I was recently asked to speak to classes at the Harvard Business School, and had the opportunity to test this question on some of the best and the brightest of tomorrow’s marketing professionals.

Creating awareness

Typically, students answer that marketing is about creating awareness, developing relationships with customers, segmenting the consumer base, etc.

These are the roles or tasks that marketing can accomplish, but, not its goal.

The goal of marketing, put in the simplest and most useful terms, is to profitably change consumer behavior.

Any organization that spends money on marketing should be attempting to increase profits by converting a greater share of the consuming public to its business, short-circuiting the customer tendency to defect to the competition, or motivating consumers to buy new or higher margin products.

Ultimate goal

This is the ultimate goal of consumer advertising, public relations, direct mail, infomercials, and every other marketing discipline.

While this maxim has always been the foundation of what marketing is, the strategies and tactics by which marketing works have been evolving for as long as people have been selling.

But, never has the marketing environment been evolving as quickly or dramatically as it is today. More than ever, the field is research-driven, results-oriented, and based on quantifiable measurements.

Technological advances

Dramatic advances in computer technology, particularly database manipulation capabilities, have enabled marketers to amass tremendous quantities of valuable information, to predict the likelihood of moving specified groups of consumers to certain types of behavior, to quantify the anticipated success of a campaign in terms of return on investment, and to measure outcomes more precisely than ever.

A revolution

We are witnessing a genuine revolution in the field of marketing. We are seeing entirely new kinds of promotional activities burst onto the scene.

At the leading edge of our field, marketers are replacing the idea that marketing is an ‘art,’ with the conviction that marketing is fundamentally a science.

This is not to say that creativity is on the decline. It is more important than ever.

However, we have begun the task of measuring the results of the programs we develop critically, empirically, and with the scientist’s eye.

That means quantifying the actual value of the creative in a marketing campaign, not merely attributing the campaign’s success (or failure) to the creative elements.

An ivestment imperative

Another dimension of the marketing revolution is that businesses are looking at marketing not as a necessary expense, but as an investment imperative.

And, they are beginning to evaluate marketing as they do any other investment – in plant, property, equipment or acquisitions: they evaluate its potential return on investment.

Increased competition, globalization of business, the continuing effects of recession and other factors have contributed to tightening marketing budgets and a much stricter approach to all spending.

Corporate executives are demanding that marketing professionals demonstrate a positive return on investment, not just high aided-recall figures or large audience reach tallies.

They expect to see an impact on the bottom line. In short, they expect that their marketing investments will profitably change consumer behavior.

The value of

consumer loyalty

One of the most profitable changes in consumer behavior an organization can make is to increase its base of loyal customers – and while all customers are important, it is crucial to realize that all customers are not created equal.

A quick look at what we call ‘loyalty math’ should convince any senior executive that a consumer loyalty program is the best marketing investment around.

In their article in the September 1990 Harvard Business Review, Fred Reichheld and Earl Sasser, Jr. identified four sources of increased profits from increased customer loyalty:

1) Reduced defections to competitors maintain base profits

2) Increased profits as loyal customers spend more over time

3) Increased profits as loyal customers cost less to serve and/or purchase higher margin products

4) Increased profits as loyal customers refer others to your store.

To demonstrate practically the economic power of this concept, I’d like to introduce ‘Wilma,’ an average customer who, like other average customers, switches her grocery store every two to four years, a pattern identified by the Coca-Cola Retailing Research Council.

Let’s make a couple of assumptions here based on actual case studies of Loyalty Management Group Canada promotional activities and database analysis.

First, let’s assume Wilma spends $120 per week at several grocery stores. Second, that she spends $80 per week, 50 weeks per year at her primary grocery store, and that this retail operation has a contribution margin of 10%.

Major contribution

Based on these figures, Wilma will contribute $400 per year to her store. If she defects after three years, she will have generated $1,200 of contribution.

The first goal of a loyalty program is to prevent Wilma’s defection. If she keeps spending at her current level for five years, she will have contributed $2,000.

But, we know from our own research that loyal customers tend to increase their purchase levels over time, spending 10% to 200% more than non-loyal customers.

Future effect

Assume that by the end of five years, a loyalty program has motivated Wilma to do all her grocery shopping ($120 weekly) at her primary grocery store and that the program has encouraged her to spend $20 of her total bill on higher margin items (private label brands, store brands, value-added services, etc.)

These changes in her behavior will boost her five-year contribution by another $1,000 to $3,000.

Finally, let’s assume that Wilma, having been successfully courted as a loyal customer, behaves as our research shows other loyal customers do, and refers ‘Betty’ and two other friends to her store.

If the loyalty program is equally successful with these newly acquired customers, Wilma’s total contribution to the store over five years could hit $7,600 – a staggering 633.3% increase over her estimated contribution as a typical non-loyal shopper.

Customer loyalty

as a point of departure

Five years ago, customer loyalty was only beginning to take hold as a revolutionary concept in the marketing field.

I was attracted by the power it held if managed creatively and supported by companies that shared a vision of where the concept could lead.

This promise led me to start Loyalty Management Group Canada three years ago, and, since then, I have enjoyed the privilege of working with leading Canadian retail and service companies on testing new ground and developing new concepts for maximizing the profitability of consumer loyalty.

Coalition database marketing

One of the developments we have achieved the greatest return on investment from is a concept known as coalition database marketingª – a tool that enables networks of consumer marketers to reap ‘Wilma-type’ benefits at a fraction of the investment stand-alone loyalty programs typically require.

Range of issues

In this column, I will explore a range of issues related to developing, managing, evaluating and expanding consumer loyalty programs, and generating the very highest return on investment from them.

Whether you are thinking about customer loyalty, hunting for a program that works, developing your own, selling the concept to senior management, or measuring its effectiveness, my goal is to provide maximum informational return on the time you invest in reading this column.